If you ask an investor how the market is doing, you might get an answer that is based on the Dow. The Dow Jones Industrial Average (DJIA) is one of the oldest, most well-known and most frequently used indexes in the world. It includes the stocks of 30 of the world’s largest and most influential companies. The DJIA is what’s known as a price weighted index. It was originally computed by adding up the per-share price of the stocks of each company in the index and dividing this sum by the number of companies — that’s why it’s called an average. Unfortunately, it is no longer this simple to calculate. Over the years, stock splits, spin-offs and other events have resulted in changes in the divisor, making it a very small number (less than 0.2).

The DJIA represents about a quarter of the value of the entire U.S. stock market, but a percent change in the Dow should not be interpreted as a definite indication that the entire market has dropped by the same percent. This is because of the Dow’s price-weighted function. The basic problem is that a $1 change in the price of a $120 stock in the index will have the same effect on the DJIA as a $1 change in the price of a $20 stock, even though one stock may have changed by 0.8% and the other by 5%.

A change in the Dow represents changes in investors’ expectations of the earnings and risks of the large companies included in the average. Because the general attitude toward large-cap stocks often differs from the attitude toward small-cap stocks, international stocks or technology stocks, the Dow should not be used to represent sentiment in other areas of the marketplace. On the other hand, because the Dow is made up of some of the most well-known companies in the U.S. large swings in this index generally correspond to the movement of the entire market, although not necessarily on the same scale.

When investors say that their portfolios have beaten the market, they are usually referring to the performance of the S&P 500. The Standard & Poor’s 500 Stock Index is a larger and more diverse index than the DJIA. Made up of 500 of the most widely traded stocks in the U.S. it represents about 70% of the total value of U.S. stock markets. In general, the S&P 500 index gives a good indication of movement in the U.S. marketplace as a whole.

Because the S&P 500 index is market weighted (also referred to as capitalization weighted), every stock in the index is represented in proportion to its total market capitalization. In other words, if the total market value of all 500 companies in the S&P 500 drops by 10%, the value of the index also drops by 10%. A 10% movement in all stocks in the DJIA, by contrast, would not necessarily cause a 10% change in the index. Many people consider the market weighting used in the S&P 500 to be a better measure of the market’s movement because two portfolios can be more easily compared when changes are measured in percentages rather than dollar amounts.

The S&P 500 index includes companies in a variety of sectors, including energy, industrials, information technology, healthcare, financials and consumer staples.

The Wilshire 5000

The Wilshire 5000 is sometimes called the total stock market index or total market index because it includes more than 7,000 of the 10,000-plus securities that are publicly traded in the United States. All publicly-traded companies with headquarters in the U.S. that have readily available price data are included in the Wilshire 5000. Finalized in 1974, this index is extremely diverse, including stocks from every industry. Although it’s a near-perfect measure of the entire U.S. market, the Wilshire 5000 is referred to less often than the less comprehensive S&P 500 when people talk about the entire market.